Challenges for Indonesia

Indonesia ended 2018 and started the new year amid glowing reports from the government on the economy. And though the country faces what could be a tight presidential election, officials are upbeat that it will not stop the momentum of Southeast Asia's largest economy.

A man walks past a screen at the Indonesia Stock Exchange building in Jakarta. It was the best performer in Southeast Asia last year, but still lost 2.5% from the year before.

Presidential challenger Prabowo Subianto, who lost the 2014 election to Joko Widodo, has placed economic issues at the top of his agenda in the rematch scheduled for April, with 41 economic action plans.

The former general and his running mate, tycoon-turned-politician Sandiaga Salahuddin Uno, dispute the rosy view espoused by the government. They say the people they have met on the campaign trail have been complaining of more economic hardship, and that growth has not trickled down to them during President Widodo's administration over the past four years.

Chief economic minister Darmin Nasution expressed confidence late last month that economic growth would be between 5.3% and 5.4% in 2019, helped in part by spending related to political agendas, such as increased distribution of social welfare assistance. For the first time, the country is staging its presidential election and legislative polls for regional and central lawmakers together on April 17.

The figures Mr Darmin gave are the same as forecast in the 2018 state budget, and would be a slight improvement on the estimated gross domestic product (GDP) growth of 5.15% for the year just ended. That in turn would be marginally better than the 5.07% recorded the year before, Finance Minister Sri Mulyani Indrawati said last Wednesday.

Ms Indrawati also said favourable macroeconomic conditions contributed to growth, with prices kept in check. Consequently, annual inflation was below the 3.5% target set in the 2018 budget.

"The low inflation rate, which stood at 3.1% in 2018, has boosted public spending and consumption," she said.

In a speech to mark the first trading day of 2019 on the Indonesia Stock Exchange, Mr Darmin reiterated his optimism, while acknowledging that 2018 was not an easy year with various internal and external challenges including the rupiah's volatility against the US dollar and the US-China trade war.

"We can be proud that we went through 2018 well," he said. "Our economy showed its resilience to international volatility. But we are not just being optimistic without a reason, and the reason is that we managed well through 2018.

"We have to start 2019 full of spirit and optimism to overcome the challenges."

In a dismal year for equities worldwide and regionally, the Jakarta exchange posted the smallest decline in Asean in 2018, at 2.5%. The market was insulated to some degree against global trade tensions thanks to high dependence on domestic consumption in the country of 265 million.

RISK FACTORS

Looking forward to this year, the political climate and current account deficit are two key challenges, say researchers at the Institute for Economic and Social Research at the Universitas Indonesia School of Economics and Business (LPEM FEB UI).

Head researcher Febrio Kacaribu wrote in a paper that domestic consumption would be boosted by election-related spending and politically driven, populist policies issued by the current administration such as containing fuel prices and distribution of funding to sub-district administrations.

But a shift in the way politicians attract voters, along with more scrutiny from law enforcement agencies and the election commission, have reduced the impact of election-related spending compared with the past, he said.

Moekti Soejachmoen, head of the Mandiri Institute, an independent economic research institute, told Asia Focus that the trend started to show during the simultaneous regional elections held in June last year, when voters in 17 provinces, 115 regencies and 39 cities went to the polls.

"Politicians have shifted their campaign to social media platforms and consequently they didn't spend much on stuff such as campaign souvenirs or banners," she said.

The government's target to achieve 5.3% to 5.4% growth is "optimistic", she added, as investors are taking a cautionary wait-and-see approach to wait for the result of the presidential and general elections.

The Asian Development Bank (ADB), in its recent economic outlook report on Indonesia, said that with stronger investment and faster economic growth, the current account deficit is expected to widen to 2.6% of GDP both this year and next, which Ms Moekti said was normal.

Indonesia will also continue to feel the pinch of trade tensions between the US and China, with possible impact on the current account deficit, added the Institute for Economic and Social Research.

If Washington erects more barriers to Chinese products entering the US, it would result in a decline in Indonesian exports of commodities to China for industrial processing, Ms Moekti said.

According to LPEM FEB UI data, a full-scale trade war between the US and China could threaten GDP growth in the two countries, which accounted for 24.2% of Indonesia's export value in 2017, representing a considerable downside for Indonesian trade performance.

Enny Sri Hartati, executive director of the Institute of Development for Economics and Finance (Indef), told Asia Focus that unlike other Asian countries, Indonesia has not been able to take advantage of the trade war, with an estimated addition to GDP of a mere 0.01%. Other countries in the region, which have been attracting investment from businesses looking to relocate production from China, posted related improvements of 0.017% to 0.045%.

MISSED OPPORTUNITY

Ms Enny said that while Indonesian exports to the US, attributable to the trade war, grew by 0.14%, imports rose by 0.42%. Other Southeast Asian countries were able to keep their imports lower and their exports higher.

"Indonesia couldn't seize the opportunities available to enter the US market left by China because our products are less competitive compared to those of other countries, mainly Vietnam," Ms Moekti added.

As well, investment values in Indonesia have barely moved as a result of the trade war, Ms Enny said.

"The trade war would potentially benefit Indonesia in terms of investment, but due to our lack of competitiveness, Indonesia would not benefit as much as our neighbours such as Malaysia, Thailand and Vietnam in reaping diverted US or Chinese investments," she said.

Indonesia fell one place to 73rd on the influential Doing Business 2019 index released recently by the World Bank. Vietnam ranked 69th, Thailand 27th and Malaysia 15th out of 190 economies surveyed.

Indonesia, however, fared better in the Global Competitiveness Report 2018 issued in October 2018 by the World Economic Forum (WEF). The country rose two places to 45th out of 140 countries, well ahead of Vietnam (77th) but still behind Malaysia (25th) and Thailand at (38th).

One of the few potential beneficiaries of a trade war, if the US and China proceed with tariffs on aviation-related components, would be Indonesia's aviation industry, Ms Enny pointed out.

But if new talks between Washington and Beijing are not successful and tensions re-emerge after the current truce, Indonesia could suffer, the World Bank warned last month.

"The resumption of such disputes pose significant risks to Indonesia through a weaker external sector and dampened commodity prices," it wrote in a country report.

"The tightening cycle of the US Federal Reserve also heightens the risk of capital outflows and financial volatility among emerging market economies, including Indonesia."

In anticipation of the possibility of short-term foreign investment outflows, Ms Moekti said the government needs to issue policies to draw more long-term foreign direct investment.

The incumbent administration has introduced 16 economic stimulus packages during its term, aiming to greatly reduce bureaucratic delays in business licensing and to ease overlapping regulations in a bid to improve the investment climate.

"The problem with those economic packages has been a lack of coordination between various government agencies involved. Field officials are often unaware of the changes in policy, so the packages are not always executable," Ms Moekti said.

The lack of coordination was evident when the 16th package was announced on Nov 16. Initially it removed 54 business sectors including many small and medium-scale ventures from the so-called negative investment list and opened them to full foreign investment. But this was revised shortly afterward to only 25 following protests from the business community.

"It is important for Indonesia to stay the course by taking measures to boost medium- and long-term prospects for economic growth that is sustainable and benefits all Indonesians," said Winfried Wicklein, the ADB country director for Indonesia.

"This will require high and accelerated investment in critical infrastructure, improvement in education and skills, and economic reforms."